The realities of health reform – bundled payments, care coordination and the need for expanded market presence – have spurred hospitals and other providers to acquire additional facilities at a rapid pace. Among the prime acquisition targets are local, physician-owned surgery centers. These acquisitions may seem straightforward, but because the facility is being sold by physicians to an entity that can benefit from referrals by those physicians, there are significant compliance risks that must be addressed.

Positive Regulatory Climate

Over the last 20 years, physician ownership in Ambulatory Surgery Centers (“ASCs”), unlike physician ownership in other entities, has enjoyed relatively few regulatory restrictions or scrutiny. In 1999, the Office of Inspector General of the Department of Health and Human Services (“OIG”) issued safe harbor regulations to protect profit distributions to physician-owned ASCs from prosecution under the federal Anti-kickback Statute (the “ASC Safe Harbors”).1 And over the last 10 years the OIG has issued numerous Advisory Opinions, most of which are favorable.2 The Stark3 law prohibiting referrals by physicians of certain designated health services contains an exception that allows a physician-owned ASC to refer and bill for certain items ordinarily classified as designated health services as long as the services are included in the ASC facility fee for the procedure. As a result, over 90 percent of ASCs in the United States have at least one physician owner who refers to the ASC.4

Threshold Regulatory Issues

Notwithstanding this apparent lenient treatment, there are practices that can create risks under federal law when considering an ASC acquisition. As in any healthcare transaction, the two most important compliance issues in a physician-seller/hospital-buyer transaction are: (i) the value of the transaction, or overall purchase price, must be fair market value and (ii) there must be a commercially reasonable business justification for the transaction. There is no safe harbor protection under the Anti-kickback Statute for the acquisition of some or all of a physician-owned surgery center, so the purchase price is subject to scrutiny under the Anti-kickback Statute. In this context, it has become standard practice to obtain an independent appraisal of the ASC’s value. There are a variety of factors to consider in determining a fair market value purchase price – historical earnings, third party payor contracts and certificate of need laws – and a knowledgeable and experienced appraiser is essential.

With respect to commercial reasonableness, the hospital-buyer should have a legitimate business purpose, absent referrals, for acquiring the ASC. Ideally, the hospital would have conducted a thorough assessment that can be articulated to counsel. It may need the ASC because of inability to accommodate current surgeon scheduling, a need to expand the facility to reach patients in the hospital’s service area, or demands from third party payors for a lower-cost surgical setting. Once the regulatory hurdles of establishing fair market value and commercial reasonableness of the transaction have been cleared, the parties need to turn their attention to structuring and due diligence.

Understand the Goal

Before conducting due diligence or drafting documents, a clear understanding of the goal of the transaction is needed. Ordinarily, a hospital buyer will either buy 100 percent of the assets and operate the ASC as an outpatient hospital department, or maintain the ASC’s status and keep the physician owners (and perhaps add more). While either course is acceptable, the hospital’s goal will affect the concerns of counsel with respect to due diligence, the documents and regulatory filings.5 If the entity will be converted to an outpatient hospital department, for example, a claims review may be less crucial if the buyer will not be assuming the ASC’s Medicare number or its associated liabilities.6 In this scenario, a thorough review of provider-based regulations should be conducted.

Conversely, if the facility will remain a freestanding ASC with physician owners, the parties should discuss a number of business issues, such as:

Whether a new entity will be formed

The percentage ownership for the parties

Whether the parties intend for the ASC to meet the elements of the Hospital/Physician ASC Safe Harbor

Finally, Medicare change of ownership7 and change of information disclosure regulations, as well as state licensure requirements for the transaction, must be considered.

Due Diligence

Assuming continued operation as an ASC, in addition to customary due diligence items like financial and contracts review, hospital counsel should also understand the ownership structure, profit distributions and any other payments to the physicians.

1. Understand the Specialties of the Physician-Owners

All physician-owners should be physicians who can use the ASC as an extension of their practice. If the entity, post-closing, will seek compliance with the Hospital/Physician ASC Safe Harbor, which most do, then each physician-investor will need to be able to use the ASC as an extension of his/her practice.8 For single specialty ASCs, a physician-investor is deemed to use the ASC as an extension of her practice if she derives one-third of her annual medical practice income from performing procedures on the Medicare ASC list (the “Income Test”).9 For multi-specialty ASCs, a physician is deemed to use the ASC as an extension of her practice if she meets the Income Test and performs at least one-third of her procedures at the ASC in which she holds an investment interest (the “Procedures Test”). The entity will also need to be able to comply with seven other elements of the safe harbor.10

If the seller is a group practice, the parties will need to analyze how ownership will be structured to comply with the safe harbor. Group practices are acceptable owners if all owners are in a position to use the ASC as an extension of their practice and, if the owners represent more than one surgical specialty, each owner can meet the Procedures Test. If, for example, primary care physicians are part of the group, the ownership should be restructured so those physicians do not have an ownership or receive any profit distributions from the ASC.

2. Analyze Payments to Physicians

Counsel should review all payments to physicians, whether they are owners or others in a position to refer patients to the ASC. Some of the items to be addressed include:

If there are payments to a physician for medical director services, the payments must be fair market value and match the terms of a medical director agreement.

All profit distributions should be proportionate to ownership percentages. This is one of the key elements of the Anti-Kickback ASC safe harbor. Requiring profit distributions to be proportionate to ownership percentages is a way to minimize any risk that distributions are being made to reward referrals.

All purchases of all or part of a physician owner’s ownership interest in the ASC should also be analyzed. Have physicians been bought out previously? If so, why was their ownership share purchased and what was the price paid for that percentage of ownership? Were other similarly situated physicians treated the same? Was the purchase price fair market value? If similarly situated physicians are not treated the same, for example, if an ASC exercises a buy-back right against an OB-GYN physician for failure to meet the Procedures Test, but fails to exercise a buy-back right against an orthopedic surgeon owner who has failed to meet the Procedures Test but who performs procedures that generate a higher facility fee, that could create risk under the Anti-Kickback Statute.

All other physician agreements should be reviewed. Often the facility landlord is owned, at least in part, by physicians. If so, confirm that the lease is commercially reasonable and that the rent is fair market value. Are there other agreements with physicians, like a sublease, a management agreement, a lithotripsy use agreement or a marketing agreement? If so, confirm that the terms are appropriate and the parties are in compliance. If not, explore termination options. Be mindful that if the buyer is assuming the ASC provider agreement, then terminating the questionable or below fair market value arrangement may not be sufficient to eliminate successor liability for the time period that the arrangement was in place.

While these seem like standard due diligence questions, the issues should be addressed prior to purchasing because they can be difficult to resolve after closing. If, for example, the landlord is owned by two physicians who are also owners of the seller, it is imperative to get the terms correct before closing. In addition, resist the temptation to pay a fee to terminate the agreement. While there are instances when a termination fee may be appropriate, those cases should be analyzed very carefully.

3. Review Coding and Payment Issues

The buyer should review a sample of patient charts to determine whether the records have appropriate documentation to support reimbursement claims. Likewise, a qualified coder should review a sample of the claims – and any denials – to determine whether there is a pattern and practice of submitting inappropriate claims.

4. Review Medical Staff Issues

An ASC is only as good as its medical staff. If even one member of the medical staff is disruptive, then others may seek another place to work. The seller may resist disclosure under state peer review statutes, so an analysis of peer review laws in the state in which the facility is located is important to understand the scope of adverse actions.

Conclusion

Transactions with physician-owned entities can be fraught with compliance issues. First, do not underestimate the critical importance of Fair Market Value and “commercial reasonableness” from the outset of the transaction. Next, be sure to understand the long-term business objectives behind the transaction. Finally, give due diligence the respect it demands and be sure to understand the specialties of the physician-owners, analyze payments to physicians, review coding and payment issues and review any medical staff issues. There are no shortcuts, but attention to detail can go a long way toward ensuring a successful and compliant transaction.

Patricia O. Powers is counsel in Waller’s Nashville office where her legal practice focuses on healthcare regulatory compliance, including structuring transactions, internal investigations, and the possible disclosure of violations of Stark and anti-kickback regulations.

Nora L. Liggett is a partner in Waller’s Nashville office where her legal practice focuses on Medicare and Medicaid fraud and abuse issues, Stark law, HIPAA, EMTALA, licensing, and other aspects of healthcare regulatory law in both transactional matters and day-to-day operations.

42 USC 1395nn, 42 C.F.R. 411.351 (Definition of “designated health services” or DHS does not include services that are reimbursed by Medicare as part of a Composite Note (for example, SNF Part A payments or ASC services identified at § 416.164(a)).

As of the date of this article conversion of an ASC to a hospital based outpatient department is permissible. However, in the FY 2013 OIG Work Plan, p. 7, of note, the OIG is reviewing the impact of such conversions on Medicare spending.

6

Some states, however, require the acquirer to assume the Medicare provider number before termination, which causes any liabilities to attach to the new owner.

7

See 42 C.F.R. § 489.18.

8

42 C.F.R. § 1001 (r).

9

42 C.F.R. § 1001.952(r)(5). The “Medicare ASC List” refers to the list of Medicare covered ASC procedures that is maintained by the Secretary of Health and Human Services and accessible on CMS’s website.

10

The remaining elements are:

The terms on which an investment interest is offered to an investor must not be related to the previous or expected volume or referrals, services or amount of business otherwise generated from that investor;

The entity or any investor must not loan funds or guarantee a loan for an investor;

The amount of payment to an investor in return for the investment must be directly proportional to the amount of the capital investment of that investor;

The entity and any hospital or physician investor must treat patients receiving medical benefits or assistance under any Federal health care program in a non-discriminatory manner;

The entity may not use space, including but not limited to operating and recovery room space, located in or owned by any hospital investor, unless such space is leased from the hospital in accordance with another safe harbor;

All ancillary services are bundled into the ASC facility fee;

The hospital may not be in a position to make or influence referrals directly or indirectly to any investor or the entity.